The Bank of England plans to slow down the pace of quantitative tightening, and it is expected to hold interest rates steady at this week's policy meeting.

The Bank of England is expected to slow down its pace of reducing government bonds by 100 billion per year this week. Prior to this, bond market volatility has significantly increased, while the Bank of England will maintain its main interest rate unchanged. Although the Bank of England believes that the impact of Quantitative Tightening (QT) on the overall economy is minimal, this measure has always been closely watched by the financial markets. Some voices in the market believe that QT is one of the reasons behind the increase in the UK government's borrowing costs. Among the major central banks around the world, the Bank of England's approach is unique. After the global financial crisis in 2008, central banks in many countries reduced their balance sheets by holding bonds until maturity, while the Bank of England directly sold government bonds purchased to stimulate the economy that year. Since 2022, the Bank of England has reduced its holdings of UK government bonds from 875 billion (approximately $1.2 trillion) to 558 billion. Over the past two years, the pace of bond sales has remained at 100 billion per year. The Bank of England has been secretive about its future policy direction. Earlier this month, Bank Governor Andrew Bailey told lawmakers that relevant decisions are still "to be determined." However, a Reuters survey shows that economists generally expect the Monetary Policy Committee to lower the median of its QT scale to 67.5 billion this week - a figure higher than the Bank of England's internal estimate of 72 billion in August. Chief European economist at T. Rowe Price, Tomasz Wieladek, pointed out: "If the Bank of England maintains the current tightening pace, the market may see a significant sell-off." On September 3, the yield on UK 30-year government bonds (inversely related to prices) rose to its highest level since 1998, while the yield on newly issued 10-year government bonds also hit a new high since 2008. This situation puts pressure on Chancellor Rishi Sunak, facing greater challenges before the announcement of the budget on November 26. However, the Bank of England's estimates last month showed that so far, Quantitative Tightening has only raised the UK government's borrowing costs by 0.15 to 0.25 percentage points. Wieladek believes that the Bank of England may only decrease the scale of Quantitative Tightening to 80 billion per year, while pausing the sale of long-term bonds that have seen the largest price declines in the past year. The core goal of the Bank of England's Quantitative Tightening is to eliminate the accumulated excess liquidity in the UK financial system from the Quantitative Easing (QE) policy, but the specific standard for the "neutral level" of liquidity has not yet been clarified. The Bank of England's survey of banks shows that the neutral level range is between 385 billion and 540 billion, while the current size of liquidity in the financial system is around 650 billion. Last week, banks' use of the Bank of England's short-term liquidity tools reached a multi-year high, indicating that the neutral level of liquidity may be closer to the current actual size than it appears on the surface. If the Bank of England wants to completely stop actively selling bonds and achieve Quantitative Tightening only through bonds maturing, it will need to reduce the annual tightening scale to 49 billion. However, Adam Dent, chief UK interest rate strategist at Santander CIB, pointed out that taking this step may make the Bank of England appear to be influenced by political factors before the announcement of the budget. He said: "Therefore, continuing with Quantitative Tightening will be an effective way to demonstrate central bank independence, ultimately strengthening credibility needed to fight against high inflation and bringing net benefits to the UK." Inflation set to rise to 4% In July, the UK inflation rate was 3.8%, ranking first among the Group of Seven (G7) advanced economies. Last month, the Bank of England completed its fifth rate cut in over a year, but this decision was passed with a narrow majority of 5:4. As the Bank of England expects inflation to rise to 4% this month, none of the 67 economists surveyed by Reuters expect the Bank to cut rates again at the Thursday policy meeting. In contrast, the Federal Reserve is expected to cut rates on Wednesday at the policy meeting and is also expected to cut rates again later this year; while the European Central Bank is believed to have ended its current rate-cutting cycle. On September 3, Governor Bailey told lawmakers that investors have understood the signal he is sending: uncertainty about "when and at what pace the Bank of England will further cut rates" has significantly increased. Bailey rarely comments on market rate expectations. When he made the above remarks, data from the London Stock Exchange Group (LSEG) showed that the market only gave a one-third probability of the Bank of England cutting rates again this year, and it was not until April 2026 that the market fully digested the expectation of a 25 basis point rate cut. Despite some economists delaying their expectations for when the Bank of England will cut rates, a majority of respondents in the Reuters survey still believe that the Bank of England will cut rates again in November or December. Bill Papadakis, strategist at Lombard Odier, said that weak economic growth, a slowing job market, and expectations of tax increases will soon exert downward pressure on inflation, and he predicted that UK rates will "fall significantly." He added that the current market expectation that the Bank of England will only cut rates once or twice more is "based on the assumption that the outlook for UK economic demand is much stronger than we judge it to be".